Switching Tracks

In desperate need of funds, the word is that railways are to go public

It’s a little known fact that China’s railway system transports 24 percent of the world’s total railway transportation volume, yet runs on only 6 percent of the world’s total rail length. Included in this is an operation toiling under the burden of huge freight volumes, sometimes way beyond capacity. There’s only one way to address this situation—extend the railway operation, in double quick time.

To comply with World Trade Organization (WTO) agreements, all China’s railway cargo and passenger transportation will be completely opened to foreign capital by the year 2007. On approaching the deadline, the reclusive railways have finally broken their silence.

After reform and reorganization of such industries as telecommunications, electricity and oil, the railway system is still government dominated in that the Ministry of Railways is its supervisor and presides over its daily operation. However, faced with the promise to open up its operation, it has to take a long hard look at itself and the reform process.

At the same time, the shortage of railway construction capital seems an insuperable barrier, making a listing an important consideration if the organization is to accumulate enough capital to remove the current bottleneck.

Stopping up Capital Gap?

LIFELINE ON HIGHLAND: The Qinghai-Tibet Railway under construction

China’s railway sector, which owns 600 billion yuan ($72.46 billion) in assets, is actually not rich at all. On the one hand, its freight capacity is far from enough, which requires immediate extension; on the other hand, its source of capital is very limited. Therefore, annual railway profit is tight, with losses not out of the ordinary.

Liu Zhijun, Minister of Railways, said that operation capacity of China’s major railways is extremely insufficient. The six major railways—Beijing-Shanghai, Beijing-Guangzhou, Beijing-Harbin, Beijing-Kowloon (Hong Kong), Lanzhou (Gansu)-Lianyungang (Jiangsu) and Zhejiang-Jiangxi lines—are saturated and cannot fulfill the ever-increasing freight demand. In fact, they are overloaded. The 100-year-old Beijing-Shanghai Railway suffers the biggest transportation capacity gap, reaching 50 percent. It is the busiest railway line in the world, supporting 10.2 percent of the nation’s passenger transportation volume and 7.6 percent of the country’s cargo transportation volume, using only 2 percent of China’s total length of railways.

A direct and efficient way to remove the railway bottleneck is to build more railway lines. Liu Zhijun proclaimed a plan early this year, emphasizing the building of a railway network and an increase in track speed. According to this plan, the operational railway lines shall stretch to 100,000 km in 2020 from 73,000 km at the end of 2003. It is calculated by the Institute of Comprehensive Transportation of NDRC (National Development and Reform Commission) that at least 100-200 billion yuan ($12.08 billion to $14.50 billion) must be invested annually into this program from this year to 2020.

However, there is a huge gulf between the blueprint and statistics provided by the finance department of the Ministry of Railways. At present, the annual investment demand for railway infrastructure is between 50-60 billion yuan ($6.04-7.25 billion). The railway construction fee last year was 38 billion yuan ($4.59 billion), 40 percent of which was used for day-to-day repairs and repaying its borrowings from the bank. In that event, the capital for new investment was only 23 billion yuan ($2.78 billion), far less than the total demand of 50 billion yuan ($6.04 billion). The big gap is filled mainly by loans from China Development Bank.

Another relevant figure is that the annual operation cost of the Ministry of Railways is as high as 16.2 billion yuan ($1.96 billion) even without counting in the annual infrastructure investment fee. Apart from that, the fee for maintaining a healthy operation cannot be overlooked. In 2003, the Ministry of Railways refurbished 36,000 trains into operation, whose repair fee reached 110 million yuan ($13.29 million), apart from additional expenses such as renewal of equipment. It is reported that the total debt the railway sector incurred was 200 billion yuan ($24.15billion) by the end of last year. Much emphasis is placed on railway transportation, but only 5 percent of the added investment of 50 billion yuan ($6.04 billion) for this year is from fiscal appropriation.

The financing channels available to the railway sector are very limited, faced with such heavy fiscal pinch. At present, construction capital is raised in three major ways: special construction fund provided by the government, treasury bond and local government investment, which are mainly used in public welfare projects in west China, and bank loans.

The most reliable source is the special construction fund for railways. On March 1, 1991, the State Council authorized the railway sector to charge a railway construction fee from shippers, some 0.0535 yuan ($0.065) every ton-km, with 0.0415 yuan ($0.005) going into the construction fund. In that way, more than 40 billion yuan ($4.83) can be added to the sector’s profit. However, this is still far less than what is needed for the great construction demand.

In order to extend new railway financing channels and adapt to the reform objectives upon WTO entry, it now seems definite that China’s railways will go public.

If Listing Goes Ahead

READY TO GO FURTHER: All of China’s cargo and passenger trains will be totally opened to foreign capital by the year 2007

According to WTO agreement, China will allow foreign capital to be a shareholder in the railway cargo service from the year 2003, with China the major shareholder. Foreign capital is allowed to take control from the year 2004. In 2006, railway cargo transportation will be totally opened to the outside world.

The Ministry of Railways had once brought forward a scheme to separate the railway network and railway transportation, which became redundant in 2002. From that time on, railway reform fell into silence.

However, when news came that China’s railway would go public in June this year, railway reform has been put back on the agenda.

It was reported in early June that China International Capital Corp., commissioned by the Ministry of Railways, was doing research about the reform of shareholding issues in the railway system. KPMG Consulting, one of the four big CPA firms, affirmed that it has an auditing program for China’s railway IPO (Initial Public Offering) overseas.

A person in the know from KPMG disclosed that the Ministry of Railways confirmed its intention to commission KPMG for the auditing work for IPO overseas, although the exact listing items are still up for consideration. He estimated that three companies founded at the end of 2003 by the Ministry of Railways—China Railways Container Transport Co. Ltd., China Railway Special Cargo Service Co. and China Railways Parcel Express Co.—are very likely to be the first three listed in the market.

The founding of the aforementioned three companies was seen as a pragmatic step by the Ministry of Railways to completely reform the railway system. The registered capital of the three companies are: 2.2 billion yuan ($265.7 million) for China Railways Container Transport Co. Ltd., 1 billion yuan ($120.77 million) for China Railway Special Cargo Service Co., and 10 billion yuan ($120.77 million) for China Railways Parcel Express Co.

“This reform is a great breakthrough in putting forward China’s railway IPO overseas,” insiders argue that it has profound meaning to separate promising and fine assets from the old operating system and from modern companies when railway reform is experiencing a stalemate. Meanwhile, the more the cargo market opens to the world, the more investment can be attracted from local governments, the public and other countries.

Wang Ronghui, Office Director of China Railways Container Transport Co. Ltd., said, “We haven’t yet been given notice to go public. But we did plan and prepare for that when the company was founded.” It is reported that some major cargo railways are possible to be listed, but their success takes second place to the shareholding reform scheme of the China Development and Reform Committee.

Authoritative experts confirmed at the end of July, “The Ministry of Railways is indeed researching and drafting out the reform protocol of China’s railway investment and financing system, so as to allow private and foreign investment in the operating system of China’s railways. Meanwhile, the new investment and financing draft is expected to be finished this autumn.”

With the business circle wanting all three railway business companies to be listed overseas, an expert reckons the Ministry of Railways must organize the property order of the three companies. “The unclear ownership will become a barrier against the listing effort in the future,” he argued. The terribly insufficient freight capacity of China’s railways and the systematic drawbacks may be a good thing on the other hand, in that it may stimulate the speed of railway investment and financing reform.

As a result, the transportation system will carry out relevant reform. For instance, the high value-added special cargo transportation, such as containers, bulky packages and frozen products, will be separated from the railway department and form specialized companies. Those will adopt market operating systems and be reformed to go public. In the field of passenger transportation, prioritized passenger railway lines and intercity passenger railways among three major economic zones—Beijing-Tianjing, Yangtze River Delta and Pearl River Delta—will have to rely on the capital provided by the central and local governments at the beginning, but will ultimately go public through issuing bonds to attract investors to conduct shareholding reform.

Railway reform may affect the whole economic situation in China and is far more complicated than it seems, thus prudence must be emphasized. Professor Xu Jizhen from the Party School of the Ministry of Railways highlighted the significance of that move: all of the three companies are fine assets and can serve as samples for the railway sector’s future financing effort through listing.